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Education as a merit good

In compensating for the failure of markets to
supply
public and
merit goods, central and local government
can intervene. In the case of pure public goods, such as defence and
street lighting, the case for intervention is clear and unambiguous.
However, in the case of merit goods and
quasi public goods, there
are disagreements about the precise role of government.

Most economists argue that governments have a
crucial role in allocating resources to merit goods such as education
and healthcare. Other economists
prefer to highlight the failure of
governments to allocate resources efficiently. These free-market
economists argue that markets should be encouraged to work whenever
possible, even in terms of the provision of merit goods.

Subsidies

There is much debate about the extent to which higher education should
be subsidised.
Subsidies are one way to help achieve the socially
optimal number of students going to university. The
challenge is to achieve Q1 students, the socially efficient number, but
universities need a fee of U to cover their costs of supply, at B.
However, students will only be prepared to pay S, at C, which reflects
their expectation of private benefit.

A subsidy of B - C (U - S) would provide the
necessary incentives for universities to supply Q1 places, and for
students to take-up this number.

If funded in this way, students would
contribute part of the real cost of their education by paying C, which
is equivalent to the private benefit they expect to derive, and
‘society’, would contribute a further part of the cost of education (B -
C) equivalent to the external benefit which is derived by society. This
subsidy would be funded through taxation.

Video

A graduate tax

In addition, or alternatively, a graduate tax
can be justified to enable students to attend university at zero fees,
or heavily discounted fees, while paying for the future benefit they
will derive out of the income they gain from employment in the future.